Governments and central banks around the world are trying hard to minimise the impact of the economic downturn on their economies. One means of doing this is to cut interest rates. The aim is to boost aggregate demand by giving people more disposable income and making borrowing and investment cheaper. But how responsive will people be to the interest rate cuts? The articles and podcasts below look at the issues.
Combating the recession The Economist (8/1/09)
Economic downturn: ‘Interest rates may not be such a useful tool any more’ Guardian (9/1/09) Podcast
Beyond rate cuts Financial Times (15/1/09)
Beyond retail therapy Guardian (8/1/09)
Uncharted territory for interest rates BBC News Online (8/1/09)
Latest cut in interest rates will not revive flagging economy Times Online (9/1/09)
Interest rates – the setting of the LIBOR rate BBC Biz Daily (9/1/09) Podcast – Tim Harford
Questions
- Explain the process by which lower interest rates boost aggregate demand.
- Explain what is meant by the LIBOR rate. Listening to the BBC Biz Daily podcast above may help in answering this.
- Assess the importance of the LIBOR rate in determining the levels of borrowing and investment in the economy.
- Discuss the relative effectiveness of fiscal and monetary policy in boosting the level of aggregate demand in the UK economy.
The World Economic Forum has warned that 2009 may see a ‘hard landing’ for China. In the context of China, this does not necessarily mean a recession, but the WEF report does identify a significant possible slowdown in Chinese growth. Given that high growth in China has led to a high level of demand for imports from other countries, especailly for raw materials and semi-finished goods, any slowdown in Chinese economic growth may have significant repercussions in the rest of the world. Any hopes that China and the emerging economies may help the rest of the world through their recessions have been dashed by data showing that even exports from China have been falling in October and November 2008 by 2.2% and 2.8% respectively. This has meant that aggregate demand in China is falling and may cause further problems, not only for China, but for the whole world economy.
China slowdown ‘big global risk’ BBC News Online (13/1/09)
China’s exports in record decline BBC News Online (13/1/09)
China’s exports slump in sharpest decline in decade Times Online (13/1/09)
World Economic Forum highlights Chinese slump as biggest risk to global economy Telegraph (14/1/09)
Chinese exports fall by the biggest margin in a decade Telegraph (14/1/09)
Questions
- Explain the significance of the fall in Chinese exports for the Chinese economy.
- Analyse the principal causes of the fall in the level of Chinese exports.
- Assess how the changes in China’s trade position will affect the exchange rate of the Chinese currency, the yuan.
- Discuss policies that the Chinese government can implement to try to minimise the impact of the fall in exports on economic growth.
The origins of all economic activity lie in barter. Barter is the exchange of goods directly without the use of money as a medium of exchange. A barter economy is one that uses just barter to organise economic activity. Many subsistence economies will use barter as the main method of trading. We might be forgiven for thinking that, given the sophistication of a modern economy, barter is a long-dead medium of exchange. As the article below shows, we would be wrong. In fact, ironically, the very sophistication that has brought us this economic growth and technical development may also be bringing barter back into fashion. There is a wide range of web sites dedicated to swapping goods and services. Seedy People may not be a website you would immediately think of visiting, but in fact, it is an exchange for gardeners and allotmenteers to swap seeds. The author of the article (John-Paul Flintoff) may have failed to pay his council tax through bartering, but in these cash-strapped times, there may be lots of other opportunities to bypass the conventional market economy.
Money is dead – long live barter Times Online (11/1/09)
Questions
- Identify two weaknesses of organising economic ativity through barter.
- Explain why barter may be coming back into fashion.
- Identify the various functions of money.
- Discuss the implications for economic efficiency of more economic activity being organised through barter.
A key cause of the financial crisis is arguably Maths. Many of the innovations in the finance industry were driven by Maths and a desire to generate higher returns from the money available. The BBC programme, More or Less, looks at the Maths of the credit crunch and considers the extent to which the misuse of mathematical principles may have contributed to the crisis. The links below look at the issues raised by the programme and also give access to the archived audio from the programme.
The Maths of the credit crunch BBC News Online (9/1/09)
More or less – programe summary (9th January programme) BBC News Online (9/1/09)
More or less – programe summary (2nd January programme) BBC News Online (2/1/09)
More less – programme (audio) BBC News Online (9/1/09)
Questions
- Analyse the extent to which quantitative analysis may have been responsible for the credit crunch.
- Consider whether the system of paying performance bonuses to bank traders created a distortion of incentives.
- Explain what is meant by a derivative. Discuss the role that derivatives played in the financial crisis.
Economists never like to use simple words when there are more complex ones available! So, the new term for printing money is ‘quantitative easing’. This refers to deliberate increases in the money supply aimed at preventing deflation. The real concern is whether quantitative easing will stoke up inflationary pressures for the future – the balance between inflation and deflation is a fine line to tread. Quantitative easing becomes necessary when there is danger of deflation and interest rates have already been cut as far as is possible.
Another problem, in the short term, is that an increase in the monetary base may have little effect on broader money (M4 in the UK) if people do not want to borrow and thus credit creation is limited.
The articles below all look at various different aspects of quantitative easing.
Europeans Disagree Drastically On Fed Rate Cut Deutsche Welle (17/12/08)
Financial crisis: Free money coming your way! Telegraph (17/12/08)
Wondering what on earth Nils was on about? He’s written this for you BBC News Online (PM programme) (18/12/08)
Japan forecasts no growth in 2009 BBC News Online (19/12/08)
New economic policy: If you haven’t got enough of this stuff, just print some more Scotsman (18/12/08)
Ground Zero The Economist (18/12/08)
Fed throws out the rulebook Times Online (18/12/08)
Quantitative easing: the modern way to print money or a therapy of last resort? Telegraph (8/1/09)
Forget hard choices. We need pampering Times Online (18/12/08)
Jeremy Warner: Darling wants say on ‘quantitative easing’ Independent (8/1/09)
Questions
- Define the term ‘quantitative easing’.
- Explain the mechanism by which the monetary authorities can implement a policy of quantitative easing.
- Discuss the relative effectiveness of cuts in interest rates and quantitative easing to boost aggregate demand in a recession.
- Analyse the impact on an economy of a prolonged period of deflation.